Arbitrage Betting Taxes: How Profits Are Taxed

Are arbitrage betting profits taxable?

Yes. The US taxes income "from whatever source derived," and gains from arbitrage betting or prediction-market trading are income. That is true even if:

• You never received a 1099 or W-2G,
• You left the proceeds in your platform balance instead of withdrawing, or
• Your net result for the year was thin or break-even.

The duty to report does not depend on a form arriving. For background on how the IRS treats winnings and wagering income generally, see the IRS topic on gambling income and losses. What is genuinely unsettled, and where most of the dollars live, is the character of that income.

Casual vs. professional: which one are you?

The first fork is whether your arbitrage activity is casual or rises to a trade or business. For activity treated as gambling, that fork maps to the recreational-vs-professional gambler distinction, and it changes the forms, the deductions, and the taxes:

The trade-off is real: a professional deducts on Schedule C without having to itemize and can write off the costs of running the operation, but §165(d) still caps wagering losses at winnings for a professional too, so gambling can't create a deductible loss against your other income, and the professional pays both income tax and self-employment tax on the net. A recreational bettor avoids SE tax but is stuck reporting gross winnings and squeezing losses through the itemized-deduction keyhole. And all of the gambling-loss figures here are subject to the new 90% limit for 2026 (below).

How does the IRS decide if you're a professional gambler?

The governing standard comes from the Supreme Court's decision in Commissioner v. Groetzinger (1987): gambling is a trade or business when it is pursued with continuity and regularity and the taxpayer's primary purpose is income or profit, not as a hobby. The Court deliberately declined to fix a single checklist, so in practice the IRS and courts weigh the totality of the circumstances, drawing on the kinds of factors used to separate a business from a hobby (the §183 hobby-loss regulations). No single factor controls, but the ones that recur are:

• Primary income source: do you rely on it as your main income?
• Frequency and volume: hundreds or thousands of trades a year?
• Organization and system: specialized tools, software, systematic strategy?
• Time commitment: how many hours a week?
• Specialized skill: training in odds, market inefficiencies, risk management?
• Profit motive: primarily profit, not entertainment?
• Business-like operations: detailed records, separate accounts, tracked P&L?

Here is the irony specific to arbitrage: the risk-elimination design that makes arbitrage attractive is the same thing that pushes you toward professional classification. A taxpayer who scans multiple platforms daily with automated tools, keeps a detailed profit-and-loss ledger, and withdraws consistent profits looks exactly like a business. The more "sure" and systematic your arbitrage, the harder it is to argue it is a casual hobby.

Gambling income, business income, or Section 1256?

This is where characterization turns into real dollars. The same arbitrage trades can be taxed three very different ways, and the gap is widest in a thin-margin or losing year:

Note: the Section 1256 row assumes the contracts actually qualify for Section 1256, which is unsettled for prediction markets. It shows the regime if it applies, not a conclusion that it does. The $3,000 figure is the §1211(b) cap on net capital losses against ordinary income applied to the residual loss, a general capital-loss rule, not a Section 1256 mechanic.

Kalshi operates as an exchange designated by the Commodity Futures Trading Commission (CFTC), which is why some traders and commentators argue its event contracts should follow the rules for regulated derivatives, potentially Section 1256, rather than the rules for wagering. The IRS and the courts have not confirmed that retail event contracts qualify, and the opposite outcome is possible. For the full mechanism, see our guide on the Section 1256 60/40 rule.

There is a second question underneath that one, specific to arbitrage, that most write-ups skip.

Do both legs of an arb get the same tax treatment?

Not necessarily. If one leg sits at a state-licensed sportsbook and the other on a CFTC-designated exchange, they are two different instruments, bought from two different kinds of counterparty, under two different regulators. Nothing in the code characterizes them together because they were opened together, or because the trader thinks of them as one position.

If the sportsbook leg is a wagering transaction and the exchange leg is a trade, the two do not net. Wagering losses under §165(d) are deductible only to the extent of wagering gains, so a losing sportsbook leg cannot offset a winning exchange leg, even though the two were opened as a matched pair and the pair as a whole may have made almost nothing. Cross-venue arbitrage can therefore produce a tax bill on a strategy designed to have no directional risk at all.

A single blended P&L cannot express that split. Legs kept separable by venue and by year can be computed under whichever characterization is applied.

One nuance that matters for arbitrageurs worried about self-employment tax: characterization as a "professional" for gambling is not the same as being a trader in §1256 or capital contracts. Trading gains are generally capital, and a trader in securities or commodities is typically not subject to self-employment tax on those gains, unlike a professional gambler on Schedule C. Which regime governs event-contract arbitrage is itself the unsettled question, and no IRS guidance or court decision has resolved it.

Does the OBBBA 90% loss limit hit arbitrage profits?

If your activity is treated as wagering, the 2026 rule changes the math. Starting with tax year 2026, the One Big Beautiful Bill Act (OBBBA) amended IRC §165(d) to cap the deduction for gambling losses at 90% of losses (still limited to your winnings). The non-deductible 10% becomes phantom income, taxable even when you broke even.

That hits arbitrage especially hard, because arbitrage is high-volume and thin-margin by design. Consider a casual arbitrageur with $50,000 of winning legs and $48,000 of losing legs across two platforms, a $2,000 real profit:

Same $2,000 of real profit, but the 90% haircut manufactures an extra $4,800 of taxable income out of the losing legs. (Figures are illustrative, not a calculation of your liability.) Under a Section 1256 or ordinary-capital framework, by contrast, the winning and losing legs simply net. There is no §165(d) haircut at all. That difference is the whole reason characterization matters. We walk through the rule in detail in our guide to the OBBBA 90% gambling-loss limit.

What about Polymarket, crypto, and offshore platforms?

A quick venue note first: Polymarket now runs two kinds of venue. Its original, offshore platform is crypto-settled (you fund positions with stablecoin via a public wallet), while a newer Polymarket US entity (QCX LLC) became a CFTC-designated contract market in 2025 and settles in US dollars. The crypto and offshore-reporting points below apply to the crypto-settled version, not the regulated USD one.

Crypto-denominated platforms add a second tax layer on top of the arbitrage profit itself. Because the IRS treats digital assets as property, each step that disposes of crypto (posting it to a position, settling, converting back to dollars) is a separate property disposition with its own gain or loss measured at fair market value. (Simply buying crypto with US dollars isn't itself a taxable event; it sets your cost basis.) So an arb run on a crypto-settled venue can generate taxable events from the crypto movement that are entirely distinct from the betting result, and digital-asset brokers may issue Form 1099-DA.

Foreign or offshore balances can trigger information-return duties regardless of how the underlying profit is characterized:

• FBAR: if your aggregate foreign account value tops $10,000 at any point in the year.
• Form 8938: for specified foreign financial assets above the applicable threshold.

These are reporting obligations, not a tax on the arbitrage itself, but the penalties for missing them are steep, so calendar them alongside your return.

What records should arbitrage bettors keep?

Whichever characterization ultimately applies, you can only claim what you can substantiate. Keep enough to reconstruct every leg of every arb:

• Platform transaction and settlement history: per venue, per year (full exports, not screenshots alone).
• Entry and exit prices, contracts, dates, and fees for each position.
• Bank and crypto transfer records, with fair market value at each step for crypto.
• A summarized profit-and-loss ledger by tax year, plus any 1099s the platforms issue.
• Evidence of how you operate (hours, tools, separate accounts), since that is what the professional-vs-casual test turns on.

Retain records for the IRS statute-of-limitations window (generally at least three to six years). If a platform restricts or bans your account for arbitrage, document that too. It can become relevant evidence in a future characterization dispute. For the bigger picture, see the Prediction Market Tax Center and our related guide on whether Kalshi winnings are taxable. If Section 1256 treatment is in play for your contracts, the relevant IRS form is Form 6781.

How Realize helps

Realize connects to your accounts (read-only), pulls your full trade history across Kalshi and Polymarket US, and organizes every leg into a clean, reconciled, year-by-year ledger, the P&L records the professional-vs-casual test and any characterization both depend on. That gives you (or your CPA) the numbers needed for whichever treatment is applied, and to fill out Form 6781 if it applies. Realize does the bookkeeping; it does not choose the characterization. CPAs can see what Realize hands over on the tax professionals page.

The bottom line

Arbitrage betting profits are taxable, and you must report them. The harder question (casual gambling income, a Schedule C business, or possibly Section 1256 capital) is unsettled, and it can swing both your rate and the value of your losses, especially under the 2026 90% gambling-loss limit. The risk-free design of arbitrage tends to push toward business or professional treatment, and whichever characterization applies is computed from the records kept from the outset.

Questions people ask

Are arbitrage betting profits taxable in the US?

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Yes. Profit from arbitrage betting and prediction-market trading is taxable income, whether or not you receive a 1099 or W-2G and whether or not you withdraw the money. What is unsettled is the character of that income (casual gambling income reported as Other Income, a Schedule C trade or business, or possibly Section 1256 capital for certain CFTC-regulated event contracts), and that characterization changes both your rate and how losses are used.

Is arbitrage betting taxed as a business or as gambling?

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It depends on how you conduct the activity, not on what you call it. Casual, occasional participants generally report winnings as gambling income (Schedule 1, Other Income) with losses limited. Systematic, high-volume arbitrage run like a business may be classified as a trade or business and reported on Schedule C, where net profit is subject to income tax plus self-employment tax; a professional deducts on Schedule C without itemizing, but §165(d) still caps wagering losses at winnings. The risk-free, system-driven nature of arbitrage tends to push toward business/professional classification.

How does the IRS decide if I am a professional gambler?

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The governing standard comes from Commissioner v. Groetzinger (1987): gambling is a trade or business when pursued with continuity and regularity and with a primary purpose of income or profit, rather than as a hobby. The Court declined to fix a single checklist, so the IRS and courts weigh the totality of the circumstances: your primary income source, frequency and volume, how organized and systematic you are, hours committed, specialized skill, profit motive, and business-like records. No single factor controls. A trader scanning platforms daily with automated tools and detailed P&L records is far more likely to be treated as a professional.

Do prediction-market arbitrage profits qualify for Section 1256?

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It is unsettled. Some traders argue that event contracts on a CFTC-regulated exchange such as Kalshi should be taxed as Section 1256 contracts (60/40 capital, outside the gambling-loss rules) rather than as wagering income. The IRS and courts have not confirmed that retail event contracts qualify, and the opposite outcome is possible.

Does the OBBBA 90% gambling-loss limit apply to arbitrage betting?

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If your activity is treated as wagering, yes. Starting with tax year 2026 the OBBBA limits the deduction for gambling losses to 90% of losses under IRC §165(d), so a thin-margin arbitrageur can owe tax on phantom income even in a break-even year. Whether prediction-market event contracts are wagering transactions at all is the unsettled question; a Section 1256 or capital framework would sit outside §165(d).